State audit rips NYSEG's management, staffing

Utility's Spanish owner battling state regulators over work force levels, leadership after audit

Dec. 1, 2012

NYSEG employees staff a distribution point for free bottled water and dry ice in the Ernie Davis Middle School parking lot in Elmira, following a tornado in July. Critics say work force reductions have affected the utility's ability to respond to severe weather. / BOB JAMIESON / STAFF PHOTO

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Key findings

A scathing audit of RG&E and its sister company NYSEG at the request of the state Public Service Commission leveled a number of criticisms, including these key findings: • The companies have scaled back their full-time work forces and now must rely on contractors to accomplish many tasks. • Spanish executives at Iberdrola’s headquarters who ordered the cutbacks didn’t recognize that upstate New York’s climate and vegetation differ from that in Spain. • Both companies were slow to adopt cyclical tree-trimming, considered a good way to reduce storm-related power outages. • The companies have numerous problems making plans and carrying them out, and engaged in year-end spending binges to meet capital-spending requirements.

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In the wake of Superstorm Sandy and a second coastal storm that left millions of New Yorkers without power, Gov. Andrew Cuomo has launched a frontal assault on the state’s seven major electric utilities.

Rochester-based New York State Electric & Gas Corp. is among the companies singled out for extra scorn for failing to restore power quickly enough.

But behind the scenes, NYSEG and its sister company in New York, Rochester Gas and Electric Corp., already had been on the hot seat.

The two utilities and Iberdrola SA, the Spanish energy giant that bought them four years ago, face uncertain repercussions from a sometimes-harsh state audit that says Iberdrola ordered deep cuts in the two utilities’ work forces.

Dozens of employees retired or resigned and were not replaced. Key units went from 20 employees to three or four — because, auditors found, Spanish executives believed utilities in New York state, susceptible to fierce blizzards and powerful hurricanes, could get by with the same work force as their units in Spain, where weather is somewhat more serene.

Auditors working for the state Public Service Commission praised numerous aspects of the utilities’ operations, but also said the companies have been slow to implement modern tree-trimming practices that can reduce the extent of storm-driven power outages; have had difficulty making and carrying out plans; relied too much on outside contractors to do routine work; and had to scramble to meet basic obligations.

The most scathing language, however, was reserved for Iberdrola’s top executives in Spain, whom auditors accused of being not just stingy but uninformed and meddlesome. Executives dominated their U.S. colleagues, the auditors said, tried to obstruct the audit itself and seemed resistant to American-style regulation.

In an interview, NYSEG and RG&E President Mark Lynch said Iberdrola agrees with many of the audit’s 75 recommendations and has already begun work implementing changes as a result.

But the company doesn’t yet concede that work force reductions should be reversed, he said, and flatly reject the audit’s suggestions that their corporate governance is flawed.

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“We think a number of the (governance) findings were fundamentally incorrect and unsupported,” Lynch said.

Iberdrola, one of the world’s largest utilities, entered the U.S. market four years ago when it paid $4.5 billion for NYSEG, RG&E and several New England utilities that had been owned by Energy East, an energy holding company.

The two New York utilities have about 1.25 million electric and 565,000 gas customers. Iberdrola, based in the city of Bilbao in northern Spain, has 27.7 million electric and 3.4 million gas customers in Spain, Brazil, Scotland and the United States. It also owns a large portfolio of wind and other generating plants worldwide.

It is one of two foreign companies that have bought into the New York enery business in the last decade; a third, Fortis, of Canada, is seeking to purchase Central Hudson Gas and Electric Corp.

The audit findings also prompt questions about oversight by the PSC, which set aside concerns about the possibility of job cuts and long-distance management when it approved Iberdrola’s takeover of Energy East.

PSC officials, saying they were too busy overseeing the recovery from Sandy and a nor’easter that knocked out more power in downstate New York, declined to comment for this story.

Weaknesses cited

The management audit of Iberdrola is the fourth in a series of reviews of New York utilities begun by the PSC since 2008. It looks at the parent company, the U.S. subsidiary Iberdrola USA and the two New York utilities.

Two of the other audits were free of controversy. The third, which focused on National Grid, raised questions about whether upstate customers were improperly charged for expenses from other units of the company. That inquiry into National Grid, an English company that owns the former Niagara Mohawk Power Corp., is ongoing.

The Iberdrola management audit, made public in late August, was done for the PSC by Liberty Consulting Group, a veteran utility auditor from central Pennsylvania.

The PSC had budgeted about $1.5 million to pay for the audit.

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Liberty’s auditors interviewed more than 270 employees and made 1,200 information requests of Iberdrola and its subsidiaries.

Liberty’s auditors noted in numerous places in the document that NYSEG and RG&E function fairly well day-to-day and that things such as financial systems, budgeting and worker training were good.

Indeed, other filings made by the utilities with the PSC show they exceeded almost all their customer-satisfaction goals in the last two years.

RG&E consistently is the most reliable upstate New York electric utility; NYSEG is middle of the pack. Both companies performed almost exactly the same in the three years since Iberdrola bought Energy East as they did in the three years prior.

Those metrics weren’t cited in the audit, which focused more on broader management issues and found areas of fault:

• Auditors repeatedly said NYSEG and RG&E suffered from staff shortages. In 2009 and 2010, Iberdrola’s first two full years in charge, 219 workers retired — and just four of them were replaced, the audit said.

Almost all of the losses cited were at NYSEG, where unions had accepted an early retirement incentive package. RG&E’s union agreed to a package only last year.

• While auditors asserted Iberdrola executives in Spain were not very attentive to goings-on at their U.S. subsidiaries, the exception was employment. They mandated big reductions at their upstate New York properties, and the corporate board monitored reductions almost monthly.

• The Spanish executives told auditors they had tried to right-size the NYSEG and RG&E work forces by comparing them to those of Iberdrola utilities in Spain and Scotland, where climate and vegetation are very different.

• To compensate for a shrinking work force, the companies have made increasing use of outside contractors, in some cases employing them much more than other utilities or for jobs that other companies do in-house. The problem, according to auditors: Outside contractors are usually more expensive.

• NYSEG and RG&E customers suffer more power outages than they should because the two utilities were slow to commit to a five-year cycle of trimming trees along power lines. Other companies did this years ago.

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RG&E began the cycle last year; NYSEG hasn’t adopted it yet. Full implementation, which would be costly, could reduce tree-related outages by 38 percent, the audit said.

Workers at NYSEG are well aware that tree-trimming isn’t what it once was, said Leo Yanez, president of International Brotherhood of Electrical Workers Local 83, which represents NYSEG workers in the Southern Tier.

Workers also know about the dubious benchmarking to Iberdrola’s other utilities.

“We made the same points. They’re trying to hold us to the same standard as Spain,” Yanez said. “That’s something we keep working with the senior people — you’re not comparing apples to apples. The needs are different, the system is different, and we have to adjust to that.

“I think slowly but surely, they’re starting to understand what it takes,” he said.

• The companies have had chronic problems meeting capital-spending goals imposed by the PSC, a circumstance the audit attributed to insufficient planning and design staff, and poor direction.

In 2010, the companies went on year-end spending binges when they realized they were going to fall short of targets. They laid out $114 million in a few months’ time, the auditors said, on items such as new trucks and replacement utility poles. They aimed to do better in 2011, but auditors said they fell behind again and planned millions more in catch-up spending.

The last-minute sprees cost overtime for employees and contractors, and premiums for purchasing materials on the fly. The Iberdrola USA board had done nothing to fix this problem, which auditors found “unacceptable.”

• Auditors criticized other instances of seat-of-the-pants planning and project management. They noted that the staff that plans the electric transmission network had been allowed to shrink from 20 people to just four — and this at a time, auditors wrote, when the need to modernize the power grid and integrate new renewable energy sources was creating more demand for planners.

• The companies’ joint gas operations unit suffered staff shortages and lacked leadership. It also was located in a Broome County control center that auditors found “significantly deficient,” with outdated equipment and physically isolated so that the sole employee on duty could get sick and not be noticed for hours.

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• Costs for natural gas might be inflated because of poor forecasting, the audit said. Though the utilities’ service stretches from one end of New York to the other, winter forecasts were based on data for Binghamton, the coldest big city in the state. The figures also were as much as 60 years old and didn’t reflect warming trends. Not surprising, the companies’ model frequently overestimated demand for gas, auditors found.

Auditors said managers knew of the shortcomings but didn’t have people to correct them.

Yanez said union leaders meet regularly with senior managers at NYSEG, and believe they’re investing the necessary funds. But they have differed over the use of contractors, and the unions have pressed for more employees.

“Hopefully, that message is being transferred to Spain,” he said.

Lynch, the company president, said early retirement programs that led to work force reductions were made with the full knowledge of the PSC. They were undertaken to save money, and to achieve what Iberdrola thought was a proper balance of in-house and contractor resources.

“Over the last three years, we doubled our capital expenditures compared to Energy East’s three previous years. But there are peaks and valleys as you go through the year,” he said. “Having contractors fill out those peaks and valleys is a more cost-effective way than retaining work force that might sit idle.”

Iberdrola's response

Iberdrola has so far promised action on 59 of the 75 audit recommendations, and implementation is under way.

The gas control center will be moved and get big-screen monitors so controllers can visualize the entire transmission system. There will be new weather data for gas-use forecasts, and a consultant was hired to help improve electric transmission planning.

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Iberdrola rejected three recommendations, all related to electricity purchasing policies, as counterproductive. The company is studying staffing levels but has made no broad promise to increase the work force.

“We’re looking at our resource plan. It could result in us moving people around, or in us increasing head count,” Lynch said.

Thirteen recommendations related to sensitive corporate governance issues are being handled outside the audit process, and have been the subject of private meetings between company and PSC officials.

The audit focused considerably on those issues, which the PSC said in its written order are “arguably the most important” in the audit. Among them:

• Top Iberdrola executives seemed largely ignorant of American regulatory requirements. Auditors said they must “adjust more to business culture here, as opposed to expect U.S. stakeholders to accommodate themselves to Spanish custom and practice.”

• Top executives wouldn’t answer auditors’ questions at one point and wouldn’t allow board members to be interviewed. They argued against disclosing information, making arguments that auditors described as “invalid” and “very peculiar.” Liberty wrote it had done hundreds of utility assessments and never encountered such resistance.

• In a corporate sense, the two new York utilities fall under the umbrella of Iberdrola USA, a subsidiary of the Spanish parent. Iberdrola USA has its own executives and board of directors and, on paper, directs the activities of NYSEG and RG&E.

But the audit said Spanish executives are sprinkled through Iberdrola USA and its board, and Spanish leaders call the shots. The U.S. subsidiary has executive offices scattered in three states. Its board didn’t select the Maine-based chief executive or set his salary and didn’t vote on the 2010 budget until the year was more than half over.

• Lengthy sections of the audit deal with efforts by Iberdrola to win approval to farm out NYSEG and RG&E work to an independent subsidiary, Iberdrola Energy Products. The company has said using IEP would save money, but auditors said they feared IEP would be too expensive and should be barred from working for the two utilities.

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Lynch said these were merely auditors’ “opinions” and are off-base. Executives and board members in Spain and the U.S. function well and act independently of one another, he said.

“Because it’s different, that doesn’t mean it’s wrong,” he said of Iberdrola’s method of governance.

Once a savior

By the time Iberdrola stepped forward to buy Energy East, that company had worn out its welcome in upstate New York. Critics complained Energy East had eviscerated the NYSEG and RG&E work forces, and said the much larger and better-capitalized Iberdrola would be an improvement.

The company told the PSC it would retain jobs, and said its global experience with electric and gas service would translate well to upstate New York.

The PSC’s own staff discounted that point, noting the climate and vegetation differences. And an administrative law judge who reviewed evidence in the case noted Iberdrola’s promises of job retention and local management autonomy were vague and not enforceable.

The commission resisted requests that it require Iberdrola to keep the upstate work forces intact. When commissioners approved the purchase in September 2008, they noted the international nature of the new ownership could be problematic but said Iberdrola’s financial strength outweighed possible demerits.

Four years later, the audit may refocus attention on the Iberdrola acquisition and its stewardship of the two upstate utilities.

The company, lauded for its financial strength, is profitable but also burdened by debt, a problem made worse by Spain’s debt crisis. Iberdrola has been seeking to sell off assets, though not the U.S. utilities.

What's next

The PSC tracks the response to each audit recommendation until implementation is finished, a process that has lasted several years with other utilities.

NYSEG and RG&E’s staffing plan has been promised by year’s end.

The governance issues are being discussed, behind closed doors, in connection with a separate Iberdrola petition filed with the PSC seeking approval for a reorganization that would add two new corporate layers between the upstate utilities and headquarters in Bilboa.

Lynch said those discussions are going well, and he suggested the auditors’ concerns about governance may be set aside. “Actions may be conspicuous by their absence,” he said.

Resolution could be complicated by Cuomo’s pressure on the utilities he believes botched storm recovery.

Last month, he announced the creation of a special commission that will review the storm recovery efforts and assess the state agencies involved in energy issues, including the PSC. Cuomo said he expects “specific recommendations to reform and modernize oversight, regulation and management of New York’s power delivery services.”